The successful farmer is always planting seeds

February 24, 2014 – Published in the North Bay Business Journal 

The unexpected rise in the U.S. stock market in 2013 surprised even seasoned investors. The market punctuated an extraordinary year with gains on the last trading day, moving many of the American indexes to record highs for only the sixth time in history.

Despite all the uncertainties — the government shutdown, Boston bombings, the ongoing Syrian uprisings, debt ceiling debates, NSA revelations, the lingering economic aftershocks of Superstorm Sandy — investors will look back at 2013 as one of the most profitable years on record, even with the bit of a bumpy ride this January.

The widely-quoted S&P 500 index of large company stocks gained 32.4 percent in 2013, with 10.5 percent returns in the year’s final quarter. Small company stocks, as measured by the Russell 2000 index, gained a remarkable 38.8 percent for the year; generating 8.7 percent of returns in the final quarter.

These returns were remarkable. The S&P gains were the highest since 1997, and the 3rd highest since 1970. The small cap returns are the third-highest since 1980. Pundits and economists didn’t think returns like this were possible.

If anything, the five-year gains since the market downturn have been even more extraordinary. The S&P 500 has posted an average 17.9 percent gain over the last 60 months, and the Russell 2000 small cap index has fared even better with an annualized return of 20.1 percent.

Investors who got out of stocks during the market crisis of 2008 and worried ever since have missed out on one of the best five-year market runs in American history.

On a comparative basis, it was also another great year for the small and value investor. Financial science has repeatedly proven that small company and value stocks outperform their benchmarks over the long-term.

Long term investors like farmers
Commentators, investment strategists and economists don’t agree on whether we are experiencing a temporary rise in the midst of a long-term bear market, as experienced during the Great Depression, or the strong early stirrings of a long-term bull like the one which started in 1982. The truth is, nobody knows, just as nobody knew that the U.S. stock markets would reel off such strong returns after the recent financial crisis and near-collapse of the banking system.

Long-term investors can be compared to farmers, who plant seeds with no foreknowledge of the weather during their growing season, and no belief that what happened this year has any impact on what will happen in the next one. There will be bad years, and good years, but over time, the good years tend to outnumber bad ones. For this reason, it makes sense to continue planting the seeds each Spring – or staying invested in the stock market even when each coming year is a mystery.

What’s next?
Long-term, stocks tend to reflect the overall growth of the economy. One possible reason why so many investors remain nervous about stocks is the persistent — and erroneous belief — that the U.S. economy is still mired in a recession. You hear words like “sluggish” in the press, but in fact, the total output of the American economy has grown steadily since the 2008 meltdown, and the pace of growth seems to be accelerating.

Economic signs are encouraging. Total corporate profits rose $39.2 billion in the third quarter, following an increase of $66.8 billion in the second. U.S. home prices recently posted their largest one-month rise in more than seven years, and some markets have seen housing values reach their prerecession levels.

Even so, many investors will continue to wait on the sidelines, looking for “proof” that the market recovery is finally for real, while others will keep their money from working on their behalf with an expectation of a crash. The former will finally get back in when prices have peaked, and will, in fact, be our most reliable indicator that the market has become overvalued. The latter will miss the next downturn, but also lose out on the positive returns that have, historically, outweighed the losses suffered in bear markets.

The past five years have given us a useful lesson: that you plant your seeds in the expectation that there will be bad harvests from time to time, but these unexpected booming years will more than make up for the losses.